IMF Executive Board Concludes 2010 Article IV Consultation with St. Kitts and NevisPublic Information Notice (PIN) No. 10/145
November 3, 2010
Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.
On July 7, 2010, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with St. Kitts and Nevis.1
St. Kitts and Nevis’ tourism-dependent economy was severely impacted by the global financial crisis, and near-term growth prospects remain challenging. Economic activity is estimated to have contracted by 5.5 percent in 2009 reflecting sharp declines in tourism and tourism-related construction activities. In the island of Nevis, the prolonged closure of its largest hotel due to damage by Hurricane Omar in 2008 has contributed to the Federation’s weak economy. The outlook is challenging, with output projected to decline again in 2010 and to remain depressed over the medium term. Inflation has declined from 7.6 percent in 2008 to 1 percent in 2009, and is expected to remain in the low single digits over the medium term.
The fiscal situation has deteriorated significantly. The government recorded a primary surplus for the fifth consecutive year of 5 percent of Gross Domestic Product (GDP) in 2009, helped by one-off tax revenue increases and non-tax revenues as well as higher grants. Efforts notwithstanding, the public debt ratio as a percent of GDP increased by 15 percentage points in 2009, and arrears on energy imports continued to accumulate. The fiscal situation is projected to deteriorate markedly to a primary deficit of 6.8 percent of GDP in 2010, largely due to a significant drop in revenue and in the absence of one-off factors in the previous year, without stepped-up efforts to reign in expenditure. With a debt ratio at 185 percent of GDP at end-2009, the debt service burden leaves no room for fiscal policy to respond to the adverse shocks. Fiscal consolidation is critical not only for debt reduction, but also to support competitiveness and underpin the quasi-currency board arrangements.
The government’s heavy reliance on financing from a captive domestic market has led to the high exposure of the banking system to public sector debt. High and increasing debt, along with the heavy exposure of the banking sector, poses a major risk to macroeconomic stability. Moreover, there is a risk of spillovers to other ECCU countries if a fiscal crisis were to develop and undermine public confidence. In addition, the non-bank financial sector has been impacted by the collapse of the CL Financial Group, underscoring the need to strengthen the supervision of financial institutions.
External imbalances have narrowed in 2009. The external current account deficit is estimated to have declined by about 8 percentage points of GDP, primarily reflecting lower Foreign Direct Investment-related imports and weak domestic demand. Tourist receipts are projected to marginally increase with arrivals expected to remain subdued. Similarly, remittances are projected to increase by less than 5 percent (year-on-year) in line with employment conditions in migrant host countries.
Executive Board Assessment
The Executive Directors observed that St. Kitts and Nevis’ tourism-dependent and highly indebted economy has been severely affected by the global financial and economic crisis and that the outlook remains challenging. Directors noted that the weak economic environment is contributing to a widening of existing fiscal imbalances, and recommended the authorities forge a national consensus for reforms to put public debt on a firmly downward trajectory, increase competitiveness, and help sustain the economic recovery. Against the background of a continued threat of natural disasters and other risks, Directors advised the authorities to stand ready to take forceful additional measures as needed to ensure macroeconomic stability.
While welcoming recent efforts at fiscal consolidation, Directors emphasized that a combination of both revenue and expenditure measures, including reducing the wage bill and prioritizing capital spending, is needed to maintain primary fiscal surpluses. They welcomed the authorities’ commitment to introduce a value-added tax and the recently announced fiscal measures, and looked forward to swift implementation.
Directors underscored the need for structural fiscal reforms over the medium term to underpin fiscal and debt sustainability, including corporatization of the electricity department, rationalization of the civil service, and strengthening of public financial management. Given that fiscal adjustment alone will not be sufficient to achieve fiscal and debt sustainability, they encouraged the authorities to speed up land sales and to consider seeking financial support from multilateral institutions.
Directors noted the staff’s assessment that the real exchange rate appears broadly in line with current economic fundamentals. Given the currency board arrangement, they called for further structural reforms to enhance competitiveness, reduce vulnerabilities, and support growth. In particular, Directors observed that greater labor market flexibility is needed.
Directors emphasized the need to step up the supervision of banks and change the fiscal financing model, given that domestic banks are heavily exposed to the government. They also observed that strengthening regulation and supervision of nonbanks will address major shortcomings in the regulatory framework.